Free trade with monetary imbalances is not ‘free’: CIBC
Trade agreements will fail if currency intervention policies are overlooked.
TORONTO — A CIBC World Markets report warns currency intervention policies abroad that are driving the Canada’s trade and monetary imbalances must be addressed or global free trade agreements will be anything but “free.”
“Trade may be liberalized, but are the exchange rates that set relative prices and costs also going to have their shackles removed? If not the free market will be anything but free,” says Avery Shenfeld, chief economist at CIBC, who co-authored the report.
Shenfeld observes several of Canada’s trading partners, particularly emerging markets, have been intervening to keep their currencies softer, giving them cost advantages in Canadian markets and in competition for a share of the US market.
Selling their own currencies, he says emerging market central banks have built up reserves that in many cases exceed 30% of GDP. Reserves used to be help mostly in major currencies such as the US dollar and euro. Holdings in non-major currencies such as the loonie have grown five times what they were five years ago to the equivalent of $550 billion.
Foreign central banks and sovereign wealth funds have accumulated $280 billion in Canadian bonds, compared to $65 billion in the prior five year period, buying that has been amplified by Canada’s solid credit rating and safe haven status, says Shenfeld. But that has pushed up the value of the loonie in the process to what the IMF declares is among the most overvalued currencies.
The strengthened currency has cut into net exports. To avoid further hits, Shenfeld says that the Bank of Canada is stuck keeping interest rates lower than they otherwise would be, which presents another risk.
“That might be too much of a good thing for sectors like housing, where a long period of low rates risks building a house price and mortgage credit bubble,” he says.
The report notes Canada has opted to delay a formal deal on tariffs and other barriers with China, but CIBC says the issue of trade will remain front and centre in relations with Asia’s largest economy. But the bigger picture centres on currency and other policies that affect the balance of trade between Canada and China, and other emerging market economies, says Shenfeld.
Click here for a pdf of the report.